You are gambling with your families’ future when you take out a home mortgage
For reasons I’ve never been able to understand everyone seems to want to buy a home. This has never made sense to me.
It’s obvious to me that for most people buying a home is a bad idea.
The biggest problem with homes is that for most people they are too expensive.
It’s true that the average monthly mortgage payment is a little over $1000, but that just scratches the surface of home expenses. You need to pay insurance and taxes, plus the standards like water, sewer electric and garbage.
But don’t forget the costs of landscaping — even if you do it yourself, there are all sorts of supplies like fertilizer, plants and fuel for the lawnmower.
Remember to add in opportunity costs — the amount of money you could be making if it weren’t for all the time the house demands. You could hold down a part time job or creating equity is a side business if you had the time.
But you can’t. Instead, you have a house.
And let’s not forget one other financial burden of home ownership — about $5,000 in easily liquefiable assets to cover emergencies. Insurance doesn’t cover everything. The more you have insured, the higher your insurance premiums will be, so it’s tempting to cut back on coverage or deductibles.
Sure, you can cut back on the amount insured or increase the deductible, but that means you need a bigger emergency fund. If the heating system needs major repairs in the middle of the winter, you need cash right away to stay warm.
But that’s not all.
Now that you have that great house, you have to fill it with appliances and furniture. After closing fees, you will probably buy these big-ticket items on credit, so add those expenses, including interest charges, to the monthly bill. Add them to your home insurance policy also, and prepare to pay a bigger premium.
Real estate professionals are quick to point out the tax advantages of owning a home, and that is true, but only if you are making enough money that you need the deduction. The median family income is slightly less than $60,000, and tax advantages have only a minor effect. In fact, when mortgages require ten or twenty percent down and interest rates are increasing, home ownership is out of reach of most median income earners.
These days home ownership is more often and option for high wage earners, not those stuck in the median.
Something else to consider: How far do you have to go to work and how much does it cost?
Employment tends to be in the center of metropolitan areas, but homes get cheaper the further away they are from the center of town. What you save in mortgage costs you spend on commuting.
An apartment close to work means fewer miles driving and it might also mean that you can own a smaller more fuel-efficient car. If your commute is only a few miles a second hand sedan is fine. Living close to work allows cheap, low cost, green transportation, like public transit, bike, scooter or even walking become viable alternatives. And apartments are much cheaper than single family homes.
In terms of safety, a larger car is the better choice for a long daily commute on the freeway. If you want an SUV because the location of your home demands a long commute, add the cost and maintenance of a bigger car to the overall monthly cost of home ownership.
Even if you are lucky enough to find a house in your price range close to where you work, remember that jobs are not as secure as they once were. According to the Bureau of Labor Statistics, (BLS) the average salaried worker changes jobs about once every four years.
So a thousand dollars a month might sound like a great deal until you start looking at all the other costs that go along with owning a home. It is an expensive proposition.
One of the things to consider about home ownership that few people think about is this:
You have to live in a home just to keep it from deteriorating.
When the industrial economy fizzled out in 2006 and the housing market tanked, bankrupt homeowners abandoned thousands of homes. Without people living in them to turn valves and manage heat and air-conditioning, houses will slowly disintegrated.
Few other investments require daily human attention to maintain their value.
Drywall gets damp and falls off ceilings, plumbing starts leaking because gaskets get brittle, and rattlesnakes overrun vacant homes as they did in Scottsdale.
It seems obvious to me that you would be better off to direct your $1000 per month to an investment that might make money, instead of demand that you spend more. If you were to buy a thousand of dollars’ worth of gold every month the only added expense is a safe deposit box that might run $20 a month.
Either that or buy a house and charge someone rent to live there and take care of it. It’s the only thing that makes sense.
That’s what the wealthy people are doing.
Rana Foroohar, CNN Global Economy Analyst, does a great job of unraveling and explaining what is happening in the current economy in her recent book, Makers and Takers. She devotes an entire chapter, “When Wall Street Owns Main Street,” to the shift of home ownership form individuals to private equity firms.
Here is what’s happening in the real estate industry:
A private equity fund pops into existence when a group of wealthy people pools their money, buy an investment, and become stockholders. Blackstone is a private equity fund investing in real estate, specifically, homes.
Blackstone operates more than 70 corporate subdivisions, which is why you may not recognize the name in spite of its size. Between 2012 and 2014, when plenty of distressed properties were available Blackstone bought $20 billion dollars work of real estate. In 2016, Blackstone held $330 billion in real estate assets.
That was the same time that home ownership by individuals was at the lowest point in 20 years.
Blackstone and private equity funds like it are one reason real estate statistics can be misleading.
When you see a media headline celebrating an increase in home sales your first assumption is that people are doing well and buying homes. But, there is no way to know whether the sales reflect ordinary people doing well and investing in a home. It is entirely possible that private equity funds are buying homes from distressed homeowners.
(Look at my article Two Questions You Should Always Ask About Statistics in the Media.)
Private equity funds aren’t just sitting on billions of dollars’ worth of real estate assets. They are busy “securitizing” them. That means they use the cash income of their residential real estate holdings to create funds, and sell shares. Investors are buying the future value of the asset.
If you think that’s complicated, it’s only the tip of the iceberg.
For the full story on the causes of the Great Recession read Crisis Economics, by Nouriel Roubini. I’ve never seen a more readable economics book. Read his book and you will know what happened during the run up to 2006, and will see the danger we still face.
Private equity firms are not limiting their interest to residential real estate. They get very creative in other markets as well
For example in 2004, a group of private equity funds pooled their resources and bought Mervyn’s from Target. Well, it wasn’t quite that simple. They used the real estate the Mervyn’s stores sat on as collateral for an $800 million loan to pay Target, and then leased the real estate back to the Mervyns stores.
There was no creation of value, except that of the future value of the newly created leases. That future income became securities and sold as shares in various forms such as Real Estate Investment Trusts (REITs).
Each store now had the suddenly added expense of a lease, and in order to make ends meet, the company started laying off workers in a desperate attempt to salvage its stock value and possibly attracted investors.
That is an example of how laying workers off can result in attracting investors.
It didn’t work though.
Mervyn’s filed for bankruptcy in July 2008, and thousands of remaining jobs disappeared.
Traditionally companies increase value by expanding, not contracting. The Mervyn’s story illustrates an ongoing problem in understanding what the media reports about the economy. We measure the economy the same way we did when we had an industrial economy, but now those measures do not mean what they once did.
This is easy to see with jobs.
When you see a news story that mentions jobs, you almost automatically think that a job equals a living wage.
According to a report from the General Accounting Office, (GAO), about 40% of jobs are contingent and do not provide a living wage. The BLS reports that the average workweek was only 33 hours in April 2018, and half the people in the United States earn less than $30,000 a year. That’s why median family income is about $60,000 — both homeowners work. But, if one loses a job, the mortgage becomes unmanageable.
Elizabeth Warren does a masterful job of explaining why financial security now eludes the middle class in The Two Income Trap. Read this book and you will see what happened over the last thirty years to leave many families sitting precariously on the edge of the abyss into poverty.
Given all these uncertainties about real estate and it’s obvious that the wisdom of home ownership is questionable for many people. If you have the money it might be a good idea, but for most people home ownership is out of reach, and the dangers of home rentals are significant.
Take all this information in total and it’s easy to see that home ownership is not the road to middle class financial security that it once was.
If you are thinking about buying a house, think again.
If you found this article interesting and want to know more, I highly recommend these books:
Foroohar, R. (2016). Makers and takers: The rise of finance and the fall of American business (First edition. ed.). New York: Crown Business.
Roubini, N., & Mihm, S. (2010). Crisis economics: A crash course in the future of finance. New York: Penguin Press.
Warren, E., & Tyagi, A. W. (2003). The two-income trap: Why middle-class mothers and fathers are going broke. New York: Basic Books.